This dissertation contributes to an increasing literature on macroeconomic instability in developing countries. It makes a critical review of the literature and classifies the sources of instability under exogenous and endogenous factors. It then argues that the impact of exogenous shocks is determined by the structural characteristics of the economy which act as a risk-management mechanism. The paper also explains that macroeconomic instability is both a cause and a reflection of underdevelopment. Whilst macroeconomic instability constraints the long-term growth and thus development, it is also the result of the co-existence of various ‘underdeveloped structures’ in the economy. The paper also presents a case study on Afghanistan. Through a diagnostic approach, it identifies the sources of instability in the country and proposes a series of policies and reforms in order to overcome macroeconomic instability in Afghanistan.